A week wouldn’t be complete without a nice myth busting post like the one put out by Rich White and Investopedia today. This week, it’s the top six myths about Social Security Benefits and some of these aren’t even myths I believe but here are the ones I think are worth noting.

Myth #1: Take Payments ASAP

The idea behind this myth is that the earlier you take it the better, because you can invest the money as it comes out. The flip side is the fact that you get less by virtue of taking it sooner. The fact of the matter is that each person is different so you have assess your situation before making any decisions.

Myth #3: Working Reduces Your Benefits

This is in part true because your Social Security benefit is reduced by 50% of your earned income above $13,560. If you earn $2 over, then your benefit is reduced by $1. As it turns out, your Social Security benefit isn’t reduced permanently… it’s just deferred until after your full retirement age.

Top 6 Myths About Social Security Benefits [Yahoo! Finance]

It’s never too early and never too late to draft a Last Will and Testament, if you don’t have one… get one! When it comes to Wills, you can make it as complicated or as simple as you needs require. It can be as simple as bequeathing all your worldly belongings or as complicated as adding provisions, requirements, etc. If you’ve been putting off having one written because you’ve been afraid of its complexity, don’t be!

Your Last Will and Testament carry the force of law and will rarely be overturned by a judge unless:

• It violates the law.
• Was written under duress or incompetence.

Executor

This is probably one of the biggest reasons why you want to have a Will. If you do not name an Executor of your estate, then the laws of the state will govern and the court will appoint an administrator. Having an Executor can simplify many problems (though it can introduce new ones) but is far superior than a third party administrator divvying up your belongings.

Bequeathing

This part names the heirs, what they are to receive, and clears up all confusion. If there are no named heirs and no direction as to how things are to be disbursed, then it goes to state law which may or may not match what you believe. Sometimes the living spouse doesn’t get everything if there are children, sometimes the children get nothing if there is a spouse, the law of the state prevails.

Having a will clears up confusion, has the potential to prevent a significant amount of in-fighting, and generally makes life a lot easier for your family. While it forces you to face your own mortality, it’s certainly better than leaving your family in disarray after you are gone.

You can start receiving Social Security payments as soon as you turn 62 but you pay a penalty for taking payment so early. If you wait until full retirement age, which varies with the year of your birth, you maximize the total amount you can get from the Social Security program. If you begin taking it at 62, your benefit could be as low as 25% less than if you waited until full retirement age.

If you started taking payments early, before your full retirement age, there’s a way to reset the clock. It’s called the Social Security redo and the subject of a segment on Marketplace Money last Friday. Essentially all you do is repay all the money you’ve received so far and the clock will be reset.

Not bad!

In 2010, the income rules for Traditional IRA to Roth IRA conversions will be lifted. It’s known as the 2010 Traditional IRA conversion loophole and it will let anyone get themselves a Roth IRA if they are patient and willing.

The current rule states that anyone with income greater than $100,000 cannot convert a Traditional IRA into a Roth IRA. Also, the current Roth IRA income phaseout limits run from $101,000 to $116,000. That means someone with an income of $100,000 or more essentially cannot take full advantage of the Roth IRA.

The solution is for you to take advantage of the loophole by contribution to a Traditional IRA. To take advantage of this, it’s very important for you to open a Traditional IRA that is not part of any existing IRA. When you do this, you will contribute to the Traditional IRA, no deduct the contribution from your taxes when you file, and then do the conversion in 2010 when the loophole presents itself.

It is important that you keep the paperwork very clear, which is facilitated by opening this special account, otherwise you run into some problems later. For example, if you contribute to another Traditional IRA that you have deducted from, you can’t elect to convert the portion that was nondeductible. You have to take it in percentages from each bucket, which can be a headache.

So, if you are going to be taking advantage of the loophole, be sure to open a separate account to keep things nice and clean.

Usually a debt obligation, such as a bond, by the federal government, state, or city is reliable and dependable. In fact, it’s so reliable that there’s a suit being raised against bond rating agencies over that very issue. Well, a pension is essentially a debt obligation and while we expect companies to potentially go bankrupt, thus effectively killing a pension (in reality the pension goes to the PBGC, Pension Benefit Guaranty Corporation, and pays pennies on the dollar), you don’t expect cities to.

Enter Vallejo, California.

You can partially blame the housing burst on sagging tax revenues but the real issue was the generous salaries and pensions offered by the city:

Thanks to retroactive benefit enhancements approved by the city council in 2000, police officers and firefighters can now retire at age 50 and receive an annual pension equal to 90% of their final pay (assuming 30 years on the job), an amount that gets increased every year to help keep pace with inflation. The old plan had given the workers a pension equal to 60% of their final pay at age 50.

So a Vallejo police sergeant making $150,000 a year can now retire at age 50 and receive an annual pension of $135,000, increased each year for inflation. To put that amount in context, you would need to amass a retirement nest egg equal to about $3.5 million to produce a similar retirement income on your own.

Police and firefighters were simply the example in the story but plenty of public employees have the same benefits and this same scenario is playing out in plenty of cities.

I don’t think any defined benefit plans are dependable, you need to supplement it with a solid retirement plan that doesn’t depend on someone else.

If you have a Traditional IRA or 401(k), you are required by tax rule to start taking required minimum distributions (most of the major brokerages have tools to help you manage this) by April 1st of the year after you turn 70 1/2. One of lesser known benefits of a Roth IRA is that there is so such similar requirement to take required minimum distributions. You are in total control when it comes to RMDs and Roth IRAs.

Granted, you can begin taking distributions at 59 1/2 on 401(k)s, so by the time you reach 70 1/2 you may need those distributions. However, it’s always nice to know that you can take out your funds on your terms, especially since the government won’t have let you touch it without penalty (outside some generally negative situations, first home excluded).

###

My post on Naming Beneficiaries on Retirement Plans was selected as an Editor’s Choice at the Money Hacks Carnival #17 - Music of the ’80s hosted at Mrs. Nespy’s World. Thanks!

If you’re considering converting your Traditional IRA to a Roth IRA, remember that you will need to pay taxes on the conversion amount and you may be subject to an underpayment penalty because of it (if you fail to file estimated tax payments).

The federal tax law regarding underpayment is straightforward. If you pay more taxes this year than you owed last year, you’re in the clear. If you don’t but are within 90% of your tax liability, you are also in the clear. State tax law will differ and you’ll have to check with your state (for example, Maryland’s law is that you have to pay more than 110% than last year or be within 90%).

So, if you make a conversion, be sure to begin paying estimated tax payments with a 1040ES so you aren’t subject to a penalty. As always, consult with a tax professional before you make any important decisions.

I have no idea why 401(k) participation wasn’t automatic in the first place and why it took the Pension Protection Act of 2006 to make it possible. The benefits of the law are already being seen as Nationwide Financial Services reported that 96% of employees are now saving for their retirement versus 74% in 2006. While the cynics will say that defined contribution plans like the 401(k) take the burden of retirement off employers, I saw we need to face the realities of the day. The reality is that defined benefit plans like pensions carry their own set of risks, ask anyone who had a Delta pension. I’d rather we face reality rather than fight it for the sake of pointing fingers.

The findings come as Americans face a shortfall in funding their retirements. The average balance in a 401(k) account was $61,346 at the end of 2006, according to the Washington-based Employee Benefit Research Institute. The savings will matter more in the future, as the number of companies offering traditional pension plans has declined by two-thirds over the past 20 years, according to the Retirement Security Project, a Washington-based group that advocates policies to help Americans become financially secure.

[Washington Post]

Last friday, Democratic Presidential hopeful Barack Obama announced that he would try to apply the Social Security payroll tax to include incomes above $250,000; in addition to the current payroll tax which collects 6.2% from earnings to to $102,000 a year. It would create a “doughnut hole,” that is an area of no additional tax between $102k and $250k (though he did no elaborate on what income would be subject to this tax), in the amount of income subject to the tax. This was his plan to extend the solvency of Social Security without increasing the retirement age or reducing benefits.

Obama: Payroll tax on salaries above $250,000 [Associated Press via Breitbart]

It’s been reported in Money on CNN Money that approximately 25% of employers with 401(k) plans are now offering professional investment advice for their employees for a fee of 0.4% to 1%. What they’ll do is take a look at all of your funds and help you select the right mix given your situation and other investments, according to Money.

It seems to me that, given limited options, having a professional planner take a look at your funds at a cost of 0.4% to 1% is a big pricey. I’m not entirely sure what they offer besides knowledge of asset allocation fundamentals and what you should do based on your risk tolerance, both are concepts you can read from a book. Considering your 401(k) shouldn’t be touched until you retire, it’s not like you have savings goals in the near term (don’t borrow for a house, please please don’t) that you need help planning for.

It seems like a pricey service for 0.4% to 1%, unless you simply don’t want to do it yourself.